Tara (00:51):
Hello, welcome to episode 60 of the Art of Estate Planning podcast. It is your host Tara Lucke, and today I want to talk about the difference between a trust for miners and a comprehensive testamentary discretionary trust.
(01:08):
Now this is a little bit of a bugbear of mine, so please excuse me in advance while I jump on my soap soapbox. But I do see different marketing and advertising around the concept of a minor or children's trust, and I also actually see organisations promoting their services where they conveniently overlook the distinction between a mine's trust and a testamentary trust. And so in this episode I really want to just set out super clearly what the key differences are. So I did a little bit of Googling in preparation for this and you can sort of come across the phrase minors or children's trust. I'm looking at the South Australian public trustee website at the date of recording and the first thing they say is a children's trust are designed to manage and protect assets for a child until they reach a specified age, and then it sort of goes on to talk about how they work.
(02:12):
They're not misleading in their description of the trust, they say it's only for a certain time period. The trust will typically end once a milestone is reached, like the child reaching a particular age successfully completing an event, et cetera. They do fail to mention the impact of Saunders and Vort, which we will talk about later, but they're not misleading necessarily, but I do think for the general public as consumers, they look at this and they go, well, that sounds good. Surely my child's protected. I'm doing the right thing without any of the nuance of what actually they could implement, which would be a much superior solution. Then we've also got organisations like your online will providers who use their marketing to say, get things sorted for your family, get things sorted for your children, but they don't offer testamentary discretionary trust in their services. So they're just doing a bare minor's trust when there are minor children and there's no advice or guidance given around the disadvantages.
(03:28):
It's sort of like misleading by omission in my opinion. We've also just got this sort of traditional more old school estate planning lawyers. I'm not discriminating, I'm giving everybody a little bit of a bad rap, but those sort of people who do estate planning on the side of their main commercial practise or are old school or think testamentary trusts are really just for those ultra high net individuals. There's plenty of lawyers out there who are just not explaining the difference and the downsides of doing a minor's trust. So I always try to get as comfortable with the core legal fundamentals behind the different structures. So let me start there now, if you actually listened to last week's episode, episode 59 about what is a trust, you might remember me saying A testamentary trust is any type of trust established under a will or on the death of somebody.
(04:35):
So in essence, the minors or children's trust is a testamentary trust, but it's not the best type of testamentary trust in my opinion for some children. So when I am sort of generally referred to testamentary trust, what I'm normally referring to is a testamentary discretionary trust where we have a broad range of beneficiaries around the entire family group and the trustee has discretion to choose out of those broad range of beneficiaries who receives and benefits from the income and the capital, and it's that broad discretionary beneficiary class that brings in the really beautiful income tax and asset protection advantages, which I will dive into in the rest of this episode. So just out of I guess laziness or a colloquial term, I sort of say testamentary trust, but what I mean is a testamentary discretionary trust because at its core there's many different ways to structure a testamentary trust with the minus trust.
(05:45):
It's like a bare or fixed testamentary trust. So first distinction is the beneficiary classes, there will usually be if it's a trust one child, then they are the only beneficiary entitled to income and capital. Sometimes I've got two sons, so I could set up a trust, I could do it two ways. I could set up one trust per son where they are each the sole beneficiary of their bear trust or I could set it up so that they are both the beneficiaries of a single bear trust and they have a fixed entitlement of 50% if they survive and satisfy the conditions. So it's certain that they are each going to get their half share out of the assets of the trust for both income and capital versus the testamentary discretionary trust where they might both be the primary beneficiaries, but it's up to the trustee of the trust to make sure that they each receive their earmarked 50% share.
(06:59):
They actually don't have certainty or any fixed entitlement in the trust and now at first glance, that might freak you out a little bit, but if you have an appropriate trustee in place, then you still can generally get a lot of comfort that those my sons will each receive their entitled share. If you have a listen to episode four, trusting the trustees, we deep dive into that, but it's the fact that nowhere can you point to the fact that either child is receiving a certain 50% which creates the opportunity for income tax planning and asset protection. Once you get with certainty saying, well, I know that you are going to get 50%, and that is something that creditors and spouses in relationship breakdowns can point to and then claim on. So the discretionary nature of a trust is actually fundamental to the asset protection advantages that they bring.
(08:11):
And if we move away and say, well, we don't have a discretionary trust, we've got a fixed trust where the entitlements are certain, you lose a lot of the asset protection. So that was the first kind of element we commonly see in a minor's or children's trust that the beneficiaries are fixed and there's only one or a couple of beneficiaries, not this broader range like in a discretionary trust. The second element is the terms of the trust are often much narrower and they can be a real spectrum of how people draught these. So at its most lazy or simple is a bear trust with no terms at all. And so you might see that in a trust drafted by an online will provider or a DIY will or just a basic will that's like one page long where they say, well, I give this gift to this child.
(09:16):
Now when you are a minor, you cannot take a gift in your own name, you have to receive it on trust, and so the law imposes the trust on the gift and where you don't really have anything more around the terms other than I give this gift to this child, then you have a situation where the executor is holding the gift on trust for that child as the sole beneficiary subject to the terms of the trusts or the trustee act in the relevant state or jurisdiction that they're in. So that is still a trust even if the test data didn't even think they were setting up a trust or intend to or give any thought to using a testamentary trust, you do have this trust arrangement imposed over the gift. So if we're looking at that website of the South Australian public trustee where they are recommending this structure or explaining this structure, I would anticipate without having seen how they would draught drafted that they actually might have some terms around the trust.
(10:32):
So it might be a couple of pages in the will where it sets out the rules that apply to the trust and in that situation they might have actually nominated who the trustee is, so where there's no nomination, it's the executor, but they can actually say, well, so and so holds the trust for the child as the trustee. A common scenario might be where you want to make sure it's not the executor or the legal guardian and you want to name who that person is and then they will have the terms set out in the will that apply and the trustee can follow both the terms in the will and also the powers in the trusts or trustees act. So trying to sort of override some of the deficiencies that are in the trust legislation. The trust legislation when it comes to trust terms are very conservative.
(11:34):
They often don't allow things like conflicts of interests. They're very conservative about borrowing money, lending money. A lot of you really have to be very cautious and prudent when you're relying just on the trust powers and usually there's no opportunity for that inheritance to be used in the family financials or contribute to other family member members who might incidentally benefit from it. It generally just has to be invested in a safe investment until the trust ends. I mentioned in episode 59 about what is a trust that the role of the trustee is a fiduciary role, and that means when they're holding the inheritance on trust for the beneficiary, they actually cannot take any actions in relation to that inheritance unless there is an express authorization allowing them to take the action which will be found in either the trust deed or the trust or trustee legislation.
(12:41):
So that's why I'm harping on about the importance of the terms and the sort of deficiency in a very bare trust that is only relying on the trust or trustee legislation. Now, I did say, I'm looking at my notes here and I did say the executor is technically the trustee, and I see this all the time where in our art of estate planning Facebook group people are administering an state where there was really poor planning upfront or it was a DIY job and they say, ah, the executor does not want to be the trustee because the executor role as you might know, is a short-term job. It might only go for a couple of years at the most, well hopefully anyway. And then that responsibility ends whereas the trustee of a minor's trust goes on for years until that minor reaches financial maturity and as an adult.
(13:47):
So they may not be wanting to sign up for such a long-term responsibility, especially where there is poor planning and no thought to the remuneration for the trustee. So often we get questions, well, how does the executor step down or hand on control of the trust to someone else? And it can be kind of tricky because they can't just renounce. I mean I guess they can not take it on in the first place, but then it kind of just defaults to the public trustee. But they have to follow this particular mechanisms in the relevant trust or trustee legislation to retire and appoint a successor and go through the stamping. And depending on what jurisdiction you're in, it might not be that flexible to do, but you do have to sort of think as soon as you're in that space, okay, I've got a trust here.
(14:47):
The same rules that would apply to a family discretionary trust in terms of changing the trustee apply to this bear mine's trust. So I've got to have a power for the trustee to retire and appoint a replacement. So you need to go to your trust legislation if there's no power in the will to do that and see what the mechanism is. There's other times where you also need to be careful in a blended family scenario where the test data has separated from the biological parent of the child and they don't want that biological parent to be in control of the funds because there is sometimes a bit of a practise whether it's actually supported or not, where the executor will just pay out the gift to the biological parent of the child and then let the biological parent hold it on trust. Now firstly, and this all depends on the wording of the gift and the way the will is structured, but firstly, that is not really best practise and you could be in a situation where even though the executor thinks they've handed it on, they are still actually liable for the actions in relation to the trust as the trustee because they were not fully discharged from their responsibilities, which is not something you want to hear.
(16:19):
If 10 years later the child is unhappy with what's happened because the biological parent has spent all the money that belonged to the child and they come and sue the executor because they're still technically liable as a trustee for the actions in relation to the trust. So if people do use these bare or children's trusts in a way to just make it clear that they are nominating a set person who they've discussed about being the trustee to hold the funds for the minor. So that can actually be an advantage of using a or crafting in your will a minor's bear or fixed trust where you actually say this person is the trustee and they're not the executor, they're not the biological parent of the child. You've had a conversation with them about taking on the responsibility. You have actually built out into the will some terms that apply to the trust, and in that scenario, a children or minors trust isn't that bad.
(17:29):
I think there is a place for those minor trusts where we have got a small gift that doesn't warrant a testamentary trust. So if we are talking like $50,000 or a sum that just doesn't justify a testamentary discretionary trust, then the children or miners trust can be an okay option. It empowers the test data to nominate the right person to be in charge of it. If we can build out some terms around it and have the right kinds of powers and they're happy with the child getting control of their trust once they turn 21 and it being exposed to all the risks of that child, then it can be an acceptable option in terms of how much money to justify. Have a listen to episode eight because we really dive into the numbers behind a testamentary trust. In that episode, we sort of talk about the rule of thumb being maybe $500,000 of investible assets into the testamentary trust to justify running it the administration of a bear trust.
(18:43):
It's almost the same to be honest, but people just feel like for some reason it's not as overwhelming. But you still need a bank account, you still need a tax file number, you still need returns and accountability about the trust. You may not need annual resolutions where there are fixed entitlements, but the administration is basically the same. So obviously I am a huge fan of testamentary discretionary trust and I don't want to say never use a bear trust ever, but I think that a bear trust has a limited place and it's important for people to be informed about the downsides of the bear trust. It's Tara jumping in real quick to let you know that this episode is brought to you by our online course Testamentary Trust, the essential guide for Australian Lawyers deepen your understanding of testamentary trust with our 10 hour online course.
(19:45):
Whether you're starting out switching specialties or refining your skills, this self-paced course will enhance your confidence and expertise when working with testamentary trust. It's literally everything that I know about testamentary trust. We start with the core principles of trust so that you have a solid foundation. Then we add in practical will drafting tips and explanations step you through popular TT strategies for common client demographics, and we wrap it all up with tips for client communication and marketing kick that lingering imposter syndrome to the curb. Or if you're an old hand at testamentary trust already, let us train your team so that they too can become testamentary trust. Pros with our online course, testamentary trusts the essential guide. So let's talk a little bit about the downsides compared to the full testamentary discretionary trust. So our bare miners trust you do get tax-free income on the inheritance for the minor, but only for that particular miner.
(20:49):
They cannot keep using it for other miners in the family. They don't get to have a second bite of the cherry when their children are born. It doesn't last for multiple generations. They get the tax free accepted trust income treatment for themselves and which means that the income is taxed as if they were adults not at penalty rates of minors. But then that's it. If you do want to refresh on what the tax-free income rules are on testamentary discretionary trust for minors, have a listen to episode 45, but in a nutshell, testamentary discretionary trusts any minor beneficiary of that trust can receive the tax free income. So at the date of recording it's about $22,000 per minor per year. So that can be siblings, nieces, nephews, grandchildren, great-grandchildren, multiple generations. These are the structures that keep wealthy families wealthy and make all the difference for young families where they've lost a breadwinner because they perpetually are paying so much less tax than anyone else with the minus bare trust, they don't get that for their children and so on.
(22:12):
It's just one-time only. There's also no income flexibility. So with family discretionary trust and testamentary discretionary trust, one of the features is the ability to stream or allocate income around different family members based on their tax rates so that you're trying to sort of optimise all of the tax rates in the family group rather than all the income just being taxed in one person's tax rate, particularly if it's a high tax rate. So in episode 45, I'm pretty sure I gave the example, if not I'm giving it now where last year my husband was still working on his PhD and the art of estate planning business is run through a family discretionary trust and the income that is generated from that business is allocated to myself, but then also to my husband because he's studying, he's on a low marginal tax rate. So I can allocate income to him at his low marginal tax rate or fill up his tax rate to sort of get him to that reasonable mid 30% tax rate rather than it all being taxed in my tax return and pushing me up several tax brackets.
(23:35):
So as a family overall, we pay less tax than if I had earned that income directly as a sole in my own name or as an employee. So testamentary discretionary trusts also allow you to do that, and it only arises because the entitlements of the beneficiaries are discretionary in nature. So it doesn't ever say that any beneficiary is getting a fixed or certain percent. The entitlement of each beneficiary is at the discretion of the trustee to choose which of the beneficiaries of the trust receive a benefit, how much and when, and that entitlement resets every year as well with respect to income. So with a bare or fixed minus trust, there is no discretion. Their entitlement is certain they're getting a hundred percent or 50%, and so that's how much of the income they have to be taxed on and receive each year. So there's no discretion.
(24:44):
And then the same goes on capital as well, and some people like the certainty, but it means that your tax flexibility is reduced. So no income streaming, no tax-free amounts for minor other than the particular child as asset protection is another big downside. So there's two elements to this asset protection. First, while the inheritance is in the trust, the trust is not going to offer the asset protection that people normally associate with trust because it is a fixed trust and the entitlement of the beneficiary is certain. So if they are 19 years old and going through a divorce and all that inheritance is sitting in the trust and they are the sole beneficiary at a family law property settlement, it's clear that money in the trust is property of that child or adult child. Now we'll talk a little bit about whether the trust is ended or still going at that point, but let's say it's still going at 19 years old.
(25:53):
So people assume a trust offers asset protection, but it only offers asset protection where the entitlements of the beneficiaries are discretionary because when it's discretionary, that beneficiary could receive zero or a hundred percent or anywhere in between of the income or capital. So it's really hard to pinpoint and say, well, we know the trustee is going to give that beneficiary X amount from the trust, but where the trust is fixed, we do know with certainty we can pinpoint what they are going to receive. The timing might differ, especially if there's an accumulation power or something, but we know that ultimately they're going to receive that amount of the capital. So there's no asset protection. Now I've just sort of said, oh, they're 19 years old, and the inheritance or assets are still in that child's trust, but that's not always going to be the case because of the rule in Saunders and Forti air.
(26:58):
Now people love saying to this child on trust until they turn 21 or 25, but where you have a fixed trust with only one beneficiary, or you could have two beneficiaries, but their entitlement is fixed and absolute, then the rule and Saunders and VOR means that once they turn 18, they can actually call for the trust to come to an end and the trustee is forced to end the trust and give the assets to them. So I am not going to dive into the Saunders and Voia rule or case because we actually did a deep dive on that in episode 13. So if you are going, oh gosh, that is an unfair rule. I didn't realise how it applied, go back and listen to that episode because we do talk about it in a lot of depth. But the reality is these trusts really only go until a child is 18 or as the test data in terms of ruling from the grave, you can only do so until they're 18, and after that, it's at risk of the child forcing the trust to come to an end.
(28:08):
So one of the key differences between a bear trust and a cemetery discretionary trust is they are a short term vehicle Testamentary. Discretionary trusts are intended to be ongoing intergenerational wealth vehicles. They are a once in a lifetime environment for tax and asset protection that are intended to house the family's inheritance and for it to keep growing and benefiting multiple generations in the trust. The testamentary discretionary trusts can last in some jurisdictions 80 years in Queensland, they've just changed the perpetuity period to 125 years. In South Australia, there is no limit at all. It can go on indefinitely. So that's a huge difference between the testamentary trust where we are benefiting multiple generations versus the child's trust, which is really only intended until they turn 18 and then the assets go into their own name and is exposed to all of their risk. They get taxed on the income in their personal tax return on top of everything else exposed to relationship breakdowns, and it's like, good luck.
(29:32):
Here's your inheritance. Do what you will with it. So there's a huge philosophical difference undermining these two structures. So I don't have a huge problem necessarily with these children's or minus trusts, and they are a useful tool. We have clauses in our clause library. So for the TT precedents club, our members get access to a will drafting clause library. It's over a hundred pages. We keep adding to it as we develop new clauses and the law changes. So it's a really incredible resource. And in that clause library, we do have clauses about setting up min's trusts, bear trusts, how to nominate a different trustee of a bear trust other than the executor or the biological parent. These sort of small scale guardianship or education fund trusts that are not full testamentary discretionary trusts. We do have drafting on them. I'm not against them. My main issue with them is people will providers, lawyers, but also people who are not lawyers preparing wills, passing them off as being equivalent to a testamentary discretionary trust or not even discussing the option of a testamentary discretionary trust.
(30:59):
So particularly where we are putting significant sums up to the thresholds where a testamentary discretionary trust would be useful into a bare minus trust, the administration of these bare minus trust is no less burdensome than a testamentary discretionary trust. So if you've got a gift of like 300,000, 500,000 and the provider of the will is not talking about a testamentary discretionary trust as an option and comparing the difference, then I think that is really misleading to the test data. If it's like 10,000, 20,000, 50,000 an amount, that will be a nice little nest egg and gift for that child once they reach maturity, but it probably on its own doesn't justify the full testamentary discretionary trust. Then I think going with a minus trust where you have got actual terms built out into the will and some sophistication to it is a great solution. So I mean, I've been going on about all the downsides of them and as you can see, there are a lot of downsides.
(32:12):
They aren't long-term wealth protection vehicles. They don't offer ongoing tax-free income. They don't offer asset protection. People are often misled into thinking they can protect the child from their own financial maturity up to greater ages like 21 or 25. But the reality is they can be attacked at age 18 and often there's a lot less flexibility for the trustee around what they can actually do with the funds and managing the trust. So those are my concerns with them. I hope this episode has been useful in terms of wrapping your head around the difference because the marketing terminology can be really confusing. People use different terms to describe different arrangements. So we've tried to go look under the hood and actually see the core of the legal arrangements that are being represented by these terms. And I hope that's been helpful and given you some insight.
(33:13):
Thank you so much for listening and I will see you next week.
